Have you ever thought about investing in real estate? Would you try to flip your houses, or would you start creating a passive income by renting it out? Personally, I love the idea of investing in real estate and earning my passive income through rent money, but there is a good way to go about it and an absolutely terrible way.

How to Lose Your Shirt in Real Estate

During the housing boom, a popular method of real estate investing came about and showed up in books everywhere. This method focused on purchasing one house every single year for 10 years. Then, after the 10th year, you should be earning enough income to quit your day job and “retire”. At the time, since property values were on the rise, not only did you have a cash flow from rent money, but you also had a large value of equity in your 10 homes.

Of course, when the housing market plummeted, this method of acquiring passive income put quite a few people into bankruptcy. They couldn’t afford to make the payments on their properties, and the houses themselves were worth much less than what they owed the bank. So, their only option was to give it all back to the bank, start with nothing all over again, and ruin their credit for the next 10 years. This plan of acquiring 10 houses in 10 years certainly did not benefit these investors.

 Why Is This Method So Dangerous?

Think about the year you bought your first house. You picked out the perfect home and were ready to sign the dotted line. “Ready to sign your life away?” joked the real estate agent. Most people understand that a house is one of the single largest investments a person makes, and it takes a long time to pay back the loan – sometimes even more than 30 years! For some, that joke has some truth.

Now imagine doing that 10 times in 10 years! You could easily owe the bank $1,000,000 once you acquire all of your properties. At that point, life could be great IF: (1) you have all of your houses rented out, (2) each of your properties has a positive cash flow, and (3) no large incidents happen (such as roof repair or a new water heater or maybe even mold removal). I don’t know about you, but that’s a ton of “ifs”!

Over the course of one year, you can almost guarantee that some of your properties will remain vacant, some of them will not have a positive cash flow, and I can promise you that incidents WILL happen. There will always be some sort of repair on your properties – big and small, and you’ll have to be ready financially to take care of them.

A Better Method When Investing in Real Estate

Rather than take on a massive debt-load with your properties, why not take a more safe approach? If you are diligent in paying down the mortgages and creating a positive cash-flow with your investments, you could acquire those 10 houses in 20 years without any outstanding loans! Yes, it takes a little longer, but wouldn’t you rather be completely debt-free rather than owing the bank 1 million bucks?!

The method is simple – pay off your house first. This can be done with an extra mortgage payment each month (yes, this will probably require some additional income, but that’s a topic for another article) and you could do it in less than 4 years (which is what my plan is).

Once that’s taken care of, you take on your first investment property and use the funds from your old mortgage payment and the cash-flow from your investment property to pay off the new loan. With the extra income, this can be done in less than 3 years. Then you take on the next property and do the same. Repeat these steps and you’ll soon have your 10 properties without one iota of debt. With no debt, you’ll have plenty of passive income rolling in.

Which method would you prefer? Please tell me that you’d agree to move slowly and invest in properties the non-debt way.

This is a guest post by Derek from Creating A Passive Income